Trading companies have a major asset which most of the service businesses do not have, that asset is well known as Inventory, the businesses are working with different kinds of assets which are selling to customers, and this is the only purpose in this business. Unlikely other assets which are retained and obtained by a business, the trading business have to depend on its survival on the constant sale of this asset. Based on this, a trading businesses need to be able to account for the asset and individual lines of merchandise which to be succeed.
The trading businesses sell goods as its primary source of revenue. A clothing store, supermarket, butcher, chemist, sport shop, milk bar are all trading businesses as they earn most of their revenue based on the sale of goods. In principle accounting, the goods sold by a business are mainly referring to Inventory.
The accounting needs in trading businesses are different from those of the service businesses because of the existences of inventory, which also called as trading stock. Stock inventory including all goods purchased by the trading businesses in order to resale, which are usually happens at a higher price than the cost of the purchased item price.
The activities of the trading businesses create a need to record both of buying and selling of goods. The meaning of trading inventory are excludes some items which may sold occasionally by a business. Non-current asset such as machineries, vehicles and equipment may be sold for a profit at the end of their functional life, however, when such assets are purchased, they are mainly purchased with the purposed of not for reselling the items to generate any profit. An business owner basically buy non- current assets with the purpose of owning them for several accounting periods for the intention of making profits.
The trading businesses depend on purchase and selling inventory, the owner of the business will need to know the great deal more about the stocks handled by the business. For example, the owner have to know the cost of goods sold, the cycle of turnover of the items, and which items are the most profitable , these are all very important pieces of information in the trading business.
In the trading businesses, the cost of goods sold is normally the largest expenses of the business, meanwhile, the business owner will need to control this expense to maximize the margin, and also the owner need to know the amount of stock loss due to damage or theft, and the percentage to raise the sale price of the stocks sold. The total of stock on hand needs to be adequate to meet the daily demands of customers. However, the more money to spend of stock purchase, the less money is available to pay to start new profitable projects or other bills. Therefore, the business owners have to actively in discord between keeping sufficient stock on hand to have the enough money available to undertake new projects or paying bills. However, if the prices are set too low the business may generate plenty of sales, but those sales will not provide sufficient profit to the expenses and the business will not be able to earn a profit. It's crucial that the owner is able to determine a suitable price that will provide for a profit and allow the business to expand.
The importance of the data collected and the number of transactions involving stock means that the accounting system need to be set up record sale and purchase of stock effectively and efficiency. Most of the small businesses use computers for recording the sale and purchases of inventory a lot easier.
The accounting cycle plays the very important role in make an appropriate entries and managing the trading company's finances in each time of purchase made or the revenue is earned. Every time a client or customer makes a payment, the accounting department have to track every single payment to ensure the particular account linked to the client or customer is fully paid.
An Accounting cycle is a step-by-step process of classification, recording and summarization of economic transactions of a trading business. It creates useful financial information in the form of financial statements including income statement, balance sheet, cash flow statement and statement of changes in equity. Accounting Cycle starts from the recording of every single transactions and ends on the preparation of financial statements and closing entries.
Following are the major steps involved in the trading company accounting cycle.
Journal Entries - Analyzing and recording Transactions
The journal entries is to analyzing and recording transactions ,it's the first step in the accounting cycle and begins at the start of an accounting period continues until the whole period. Transaction analysis is a process which concludes whether a specific trading company event has an economic impact on the assets, liabilities or equity of the business. After analyzing the transactions, accountants will classify and record the events which having economic impact by journal entries according to debit and credit rules of a T-Account respectively.
Example of Debit and Credit rules in the T-Account:-
Assets and Expenses
An increase is recorded as debit (left side)
A decrease is recorded as credit (right side)
Liabilities, Equities and Revenues
A decrease is recorded as debit (left side)
An increase is recorded as credit (right side)
Following are some examples of translations and Journal Entries:-
Goods purchased on credit from Samantha RM 6,000
Purchase account debit RM 6,000
Samantha account credit RM 6,000
Rent paid for shop to landlord RM 2,000
Rent Account Debit RM 2,000
Cash Account Credit RM 2,000
Commission received in cash RM 1,600
Cash Account Debit RM 1,600
Commission Account Credit RM 1,600
Posting Journal Entries to Ledger Accounts
Posting the journal entries to the ledger accounts is the second step of accounting cycle.
After the journal entries recorded in the first step provide information on which accounts are to be debited and which are to be credited, the debit and credit values of journal entries will be transferred to ledger accounts accordingly. Each department receives a paper copy of the portion of the Ledger account containing the accounts assigned to their department code.
Some example of Ledger accounts as below,
Preparing Unadjusted Trial Balance
An unadjusted trial balance is the one which is created before any adjustments are made in the ledger accounts and it will be print out at the end of each month to initiate the process of creating financial statements.
Example:
Following is the unadjusted trial balance prepared for Company A.
Preparing adjusting entries and the end of the Period.
Adjusting entries are journal entries made at the end of the accounting period to allocate
revenue and expenses to the period in which they actually are applicable. Adjusting
entries are required because normal journal entries are based on actual transactions, and
the date on which these transactions occur may not be the date required to fulfill the
matching principle of accrual accounting.
The two major types of adjusting entries are:
Accruals: for revenues and expenses that are matched to dates before the
transaction has been recorded.
Deferrals: for revenues and expenses that are matched to dates after the
transaction has been recorded.
Accruals
Accrued items are those for which the firm has been realizing revenue or expense without
yet observing an actual transaction that would result in a journal entry. For example,
consider the case of salaried employees who are paid on the first of the month for the
salary they earned over the previous month. Each day of the month, the firm accrues an
additional liability in the form of salaries to be paid on the first day of the next month, but
the transaction does not actually occur until the paychecks are issued on the first of the
month. In order to report the expense in the period in which it was incurred, an adjusting
entry is made at the end of the month.
Deferrals
Deferred items are those for which the firm has recorded the transaction as a journal
entry, but has not yet realized the revenue or expense associated with that journal entry.
In other words, the recognition of deferred items is postponed until a later accounting
period.
5.Preparing adjusted trial balance
The Adjusted Trial Balance is a trial balance which is prepared after taking into account all the adjusting entries that have been journalized and transferred. The Adjusted Trial Balance
will also show the balance of all the accounts irrespective of whether they were involved in the adjustment. The accounts involved in the adjustment will show the updated or adjusted balance. The purpose of preparing the Adjusted Trial Balance is to show the effect of all financial events that had occurred in the accounting period. The Adjusted Trial Balance is to verify that the total debit and total credit are equal for all the accounts in the ledger after the adjustments.
6.Preparing financial Statements
Financial statements are one of the mainstays of the accountant in business, prepared according to relevant regulations, accounting standards and other guidelines, depending on the type of organization. However, with stakeholders increasingly including not only other finance professionals, experienced investors and business analysts but also the general public, it is crucial that statements can be understood by all users. Additionally, information used to prepare final documents must be verifiable as whole and accurate.
There's more to compiling financial statements and accounts than simply arriving at the final figures. Other relevant activities might include:
preparing supporting schedules and notes, and statements of affairs
checking that documents and files of transactions recorded in the books have been posted accurately
analyzing historical data to show year-on-year or month-to-month changes in various financial positions
selecting key information and drafting relevant interpretations for cover statements for bank reports.
7.Closing temporary accounts via closing entries
At the end of the accounting period, the balances in temporary accounts are transferred to
an income summary account and a retained earnings account, thereby resetting the balance of the temporary accounts to zero to begin the next accounting period. First, the revenue accounts are closed by transferring their balances to the income summary account. Next, the expense accounts are closed by transferring their balances to the income summary account. Finally, the dividends account is closed to retained earnings. Once posted to the ledger, these journal entries serve the purpose of setting the temporary revenue, expense, and dividend accounts back to zero in preparation for the start of the next accounting period.
8.Preparing post-closing trial balance
The post-closing trial balance is the last step in the accounting cycle. It is prepared after all of that period's business transactions have been posted to the General Ledger via journal entries. The post-closing trial balance can only be prepared after the closing entries have been posted to the General Ledger. The purpose of closing entries is to transfer the balances of the temporary accounts (expenses, revenues, gains, etc.) to the retained earnings account. After the closing entries are posted, these temporary accounts will have a zero balance. The permanent balance sheet accounts will appear on the post-closing trial balance with their balances. When the post-closing trial balance is run, the zero balance temporary accounts will not appear. However, all the other accounts having non-negative balances are listed, including the retained earnings account. As with the trial balance, the purpose of the post-closing trial balance is to ensure that debits equal credits.
Q2, Assume that you are an owner of a Rafflesia Sdn. Bhd, Below are TWELVE(12) information during the first month of operation for the year 2011 for you to use in recoding the following:
1st Jan Mr. Lee, owner of Rafflesia Sdn. Bhd., Invested RM200,000 cash and premises amounting to RM350000.
2nd Jan Mr Lee purchases machineries of RM 20,000 on credit from ABC Machines Sdn. Bhd.
4th Jan Paid insurance in advance for the February month of the year RM 1500.
5th Jan Paid to advertising agent in advance for the next 6 months for a total of RM 700.
7th Jan Purchased of raw materials RM 15000 in cash from Soon S/B.
10th Jan Cash Sales RM 11000, money received in cash.
13th Jan Return on purchases of defective raw materials RM1250 bought from Soon S/B.
15th Jan Paid salary RM4500 by Cash.
20th Jan Accruals expenses of Electricity and water bill RM 450 for the month of January 2011 payable in February 2011.
24th Jan made a sale on account of RM 6000 to May S/B, payable in 30 days.
27th Jan returned on sales made on account of RM 500 from May S/B.
30th Jan Cash withdrawal RM750 for own personal use.
a. Create one transaction for each account, and prepare the necessary Journal Entries.
Journal Entries
No.
Date
Account
DR (RM)
CR(RM)
1
1/1/2011
DR Premises
200000
CR Mr Lee's Capital
200000
Mr. Lee, owner of Rafflesia Sdn. Bhd., Invested RM200,000 cash and premises amounting to RM350000.
2
2/1/2011
DR Machinery
20000
CR ABC Mechines Sdn. Bhd
20000
Mr Lee purchases machineries of RM 20,000 on credit from ABC Machines Sdn. Bhd.
3
4/1/2011
DR Prepaid Insurance
1500
CR Cash
1500
Paid insurance in advance for the February month of the year RM 1500.
4
5/1/2011
DR Prepaid Advertising agent
700
CR Cash
700
Paid to advertising agent in advance for the next 6 months for a total of RM 700.
5
7/1/2011
DR Purchase
15000
CR Cash
15000
Purchased of raw materials RM 15000 in cash from Soon S/B.
6
10/1/2011
DR Cash
11000
CR Sales
11000
Cash Sales RM 11000, money received in cash.
7
13/01/11
DR Purchase Returns - Soon A/B
1250
CR Raw Material
1250
Jan Return on purchases of defective raw materials RM1250 bought from Soon S/B.
8
15/01/11
DR Salaries Expense
4500
CR Cash
4500
Paid salary RM4500 by Cash
9
20/01/11
DR Electricity and Water Expenses
450
CR Accounts Payable - Electricity and Water
450
Accruals expenses of Electricity and water bill RM 450 for the month of January 2011 payable in February 2011.
10
24/01/11
DR May S/B
6000
CR Sales
6000
Made a sale on account of RM 6000 to May S/B, payable in 30 days.
11
27/01/11
DR Sales Returns
500
CR May S/B
500
Returned on sales made on account of RM 500 from May S/B.
12
30/01/11
DR Drawings
750
CR Cash
750
Cash withdrawal RM750 for own personal use.
Total
261650
261650
b.) Post to the General Ledger the above Journal entries
General Ledger
Cash
1st Jan Mr Lee Capital
200000
4th Jan Prepaid Insurance
1500
10th Jan Sales
11000
5th Jan Prepaid Advertising
700
7th Jan Purchase
15000
15th Jan Salaries Expense
4500
30th Jan Drawings
750
B b/c
188550
211000
211000
B b/d
188550
Mr. Lee Capital
B b/c
200000
1st Jan Cash
200000
200000
200000
B b/d
200000
Machinery
2nd ABC Machines Sdn. Bhd
20000
B b/c
20000
20000
20000
B b/d
20000
Purchase
7th Jan Cash
15000
B b/c
15000
15000
15000
B b/d
15000
ABC Machines Sdn. Bhd
B b/c
20000
2nd Jan Machinery
20000
20000
20000
B b/d
20000
Prepaid Insurance
4th Jan Cash
1500
B b/c
1500
1500
1500
B b/d
1500
Prepaid Advertising
5th Jan Cash
700
B b/c
700
700
700
B b/d
700
Purchase Returns - Soon S/B
13th Jan Raw Material
1250
B b/c
1250
1250
1250
B b/d
1250
Raw Material
B b/c
1250
13th Jan Purchase Returns - Soon S/B
1250
1250
1250
B b/d
1250
Salaries Expense
15th Jan Cash
4500
B b/c
4500
4500
4500
B b/d
4500
Electricity and Water Expenses
20th Jan Accounts Payable
450
B b/c
450
450
450
B b/d
450
Accounts Payable
B b/c
450
20th Electricity and Water Expenses
450
450
450
B b/d
450
May S/B
24 Jan Sales
6000
27th Jan Sales Returns
500
B b/c
5500
6000
6000
B b/d
5500
Sales Returns
27th Jan May S/B
500
B b/c
500
500
500
B b/d
500
Drawings
30th Jan Cash
750
B b/c
750
750
750
B b/d
750
Sales
B b/c
17000
10th Jan Cash
11000
24th Jan May S/B
6000
17000
17000
B b/d
17000
C.) After getting the balances of (b), Create the Trial Balance.
Rafflesia Sdn. Bhd
T- Balance
31st Jan 2011
Account Title
Debit (RM)
Credit (RM)
Cash
188550
Mr. Lee Capital
200000
Purchase
15000
Machinery
20000
ABC Machines Sdn. Bhd
20000
Prepaid Insurance
1500
Prepaid Advertising
700
Purchase Returns - Soon S/B
1250
Raw Material
1250
Salaries Expense
4500
Electricity and Water Expenses
450
Accounts Payable
450
May S/B
5500
Sales Returns
500
Drawings
750
Sales
17000
Total
238700
238700
d. Finally, prepare the two (2) major financial Statements
d.1 Income Statement
Rafflesia Sdn. Bhd
Income Statement
31st Jan 2011
Sales Revenue
Sales
17000
Less: Sales Return
-500
Purchase Returns
-1250
Total of Sales Revenue
15250
Operating Expenses
Salaries Expense
4500
Electricity and Water Expenses
450
Total of Operating Expenses
4950
Net Income
10300
d.2. Balance Sheet
Rafflesia Sdn. Bhd
Balance Sheet
31st Jan 2011
ASSETS
LIABILITIES & OWNERS EQUITY
Cash
188550
Accounts Payable
20450
Machinery
20000
Owners' Equity - Mr. Lee Capital
200000
Prepaid Insurance
1500
Retained Earnings - Net Income
10300
Prepaid Advertising
700
Less: Drawings
-750
Raw Material
1250
Accounts Receivable - May S/B
5500
TOTAL
217500
TOTAL
230000
